Saturday, May 26, 2018

Ponzi In A Box

In business, if you design a system, someone will figure out a way to manipulate it for illicit profit.  The more complicated the system is, the easier it is to find a way to cheat.

Years ago, the heads of the rail lines got together and worked out an interchange service system, in which rolling stock such as boxcars and flatcars could be shared on multiple rail lines.  Instead of sending an empty boxcar back to the original shipping point, cars could be used by any rail line, by paying a fee to the car’s owner. 

In theory, such a system benefitted everyone.  In practice, it benefitted a few enterprising railroads more than others, especially when many rail lines were just then switching to computers to keep track of their cars.

The LaSalle and Bureau County Railroad Company, a tiny 15 mile rail line in North Central Illinois that operated a single purple locomotive, acquired boxcars from Penn Central.  I use the word “acquired” because there seems to be a great deal of confusion about just what happened.  Either LaSalle bought a few boxcars, or contracted to repair a few boxcars, from the larger railroad.  What is certain is that Penn lost a lot of cars and LaSalle had more than it had paid for, simply by changing the serial numbers on the repainted cars and putting them back on the rails as its cars.

One version of the story had Penn Central hiring LaSalle to repair boxcars, but LaSalle would take good Penn cars off the tracks and change their serial numbers to match the cars needing repair, sending them back to Penn and collecting the repair fee.  The old cars would be repainted and given LaSalle numbers and put back on the rails.  The boxcar at right was one of the renumbered cars.

Since the purloined rolling stock was scattered all over the country, no one noticed that a small rail line suddenly had more cars than it was supposed to, nor did the rail lines notice a modest increase in the amount paid to LaSalle for using “its" cars.  It was a brilliant scam--sort of like stealing a car and leasing it to taxi cab line. 

There were also accusations that the LSBC (laughingly referred to by locals as “Let’s Steal Box Cars”) took Penn boxcars off the line, and sold them for scrap metal, shipping the metal to scrapyards in Penn’s own cars.  Most of the allegations are hard to pin down, since both the LSBC and Penn went out of business. 

Note.  Railroads have frequently been the targets of scrap metal thieves.  In Nicaragua and Guatemala, the thieves were cash-strapped governments, who shortsightedly scrapped the rails and rolling stock for a quick profit.  Recently, in South Africa, enterprising thieves stole six miles of track--just under a thousand tons of steel--to sell as scrap metal.

All of this happened back in the 1970’s, but I was reminded of the story when I heard about the newest scam:  the German container scam.  At most, LaSalle stole slightly fewer than 400 boxcars, but a German company found a way to steal one million shipping containers. 

Containers, like rail cars, have an interchange system.  Containers travel all over the world on ships, trains, and trucks, and are rarely shipped empty back to an original shipping point.  (Yes, I have written about shipping containers before.  I admit to finding them fascinating.)

The P&R Group would sell an investor a new 40-foot shipping container for roughly $3,000, then manage the rental of the container to shipping companies through a sister company based suspiciously in Switzerland.  After five years—during which time the owner could depreciate the value of the container--P&R would buy back the container for 65% of the original price.  Some investors enjoyed as much as 10% annual return from their containers, prompting many to purchase additional units.

P&R is not the only company to sell containers to investors, and while private ownership of containers is not as common as it was a few decades ago, roughly 10% of the aluminum and steel boxes being used are still held by private investors.  What made P&R unique was its high rates of return and that guarantee to repurchase the container at a fixed price.

The number of investors skyrocketed, with many investors buying multiple contracts.  At its peak, P&R had 62,000 investors who had paid $4.12 billion for 1.6 million containers.  P&R was a 40 year-old company that was widely recognized as stable and well run from a beautiful building in Munich.   The company annually received a good bill of health from German regulatory agencies.

All was well--at least, until someone finally completely read its financial reports and noticed that annual payments to investors were actually higher than the income from the containers.  There was only one possible way the company could find the money to do this—it had to be selling an ever increasing number of containers, using the funds from new investors to pay the income of the established investors.  In other words, it was a Ponzi scheme.

Like all great Ponzi schemes (Bernie Madoff, Enron, The Illinois State Retirement System) the system could only survive as long as the pool of investors continually widened.  As soon as one blogger noted the financial discrepancy, the game was over.  P&R promptly filed for bankruptcy.  In the turmoil that followed, it eventually turned out that while the company had sold 1.6 million containers….It was managing only 600,000.

The standard cargo container is 40 feet long, 8 feet wide, and a little over 8 feet tall.  Put end to end, that’s enough missing containers to stretch in a line from Honolulu to New York, continue on through London, past Munich and end in Moscow—with still enough left over to stack up to the  International Space Station, twice.  (Or almost thirty times enough containers to ship the Great Pyramid at Giza).

It is rather obvious that the missing containers actually existed only on paper.  P&R was selling imaginary containers, and the rare investor who tried to actually see his container was probably told that at the moment it was floating across the Pacific, full of tennis shoes. 

The investors are probably going to lose more than their original investment.  I’m sure that lawyers could probably feast over the bones of the company for a few years, and eventually return ten or fifteen cents on the dollar to the original investors, but that is not the end of the story.  You will remember that P&R did not own the containers--individual investors did.  And since P&R is out of business, those containers are just sitting empty at docks, shipping companies, truck yards, and assorted shipping depots.  With no parent company to handle their leasing to shipping companies, the containers are racking up storage fees that will eventually be passed on to their owners.

If anyone can ever figure out who owns which one. 


  1. Another great "lesson". Ted.

  2. If you buy something for $3000, you probably should check to see if it actually exists.